How NOT To Invest In Foreclosures

 

Trace Trajano recently posted a story about Anna, who bought a property in a foreclosure auction in the US. Take note that some of the things in the story might not be applicable here in the Philippines. Nevertheless, there are lessons here that are applicable to real estate investors  no matter where our locations may be. Before that, here’s the story of Anna…

Update dated June 2, 2011 – After much thought, I have decided to leave Trace Trajano‘s local coaching program and my role as one of the local coaches. I would also like to inform everyone that I am not part of Trace’s other programs.

For those who don’t know, I was once a student of Trace, and I was also part of the team that won his first apprentice challenge, although I decided to leave the RYP team last September 2010. I became one of the local coaches as part of the now defunct Terrific Trio University. I also helped promote his seminars in the past including TRQ 1.0, TRQ 2.0, TRQ Cebu, his quick cash seminars, and the last one was TRQ 3.0.

It has also come to my attention that some materials that Trace used in marketing some of his seminars might make it appear that I am one of his partners. I would like to make it clear that I am not a business partner of Trace Trajano.

Things did not turn out as planned, but lessons have been learned, and I feel it is time for me to move on. ~ end of update ~ [/su_note]

The Story of Anna
Posted by Trace Trajano on October 15, 2009 at 8:31am

Let me tell you the story of Anna…

Anna excitedly attended a foreclosure auction because she read a book saying that you can get a good deal at auctions.

She bid at the auction and won – wow. “Now I am going to be rich”, she told herself.

She needed 10% down – so she withdrew her life savings and use that as downpayment. Her credit is very good so she was able to qualify for a loan. She pulled it off.

Now it’s time to rent out the property.

BUT, there is a problem. In FORECLOSURE auction, there is very limited time to inspect the property. In fact, she bought it because the outside looks good and she figured the inside should be in good condition also.

There is termite damage at the joints and it’s an additional $5,000 repairs that she couldn’t afford. She pulled out her credit card and got a cash advance – payable with 24% interest. She figured she can rent the property for $1,000 a month so that will more than cover it, right?

She got a tenant. She did not pre-screen her properly. She got a bad tenant. A tenant from hell in fact. Her tenant only paid the first month’s rent and now does not return her phone calls. She optimistically said, “No problem – I’ll get her evicted”. Her tenant from hell is a professional tenant. He (the tenant from hell) accused Anna of being a slumlord. The eviction was delayed.

Two months of no income…then three months. Now Anna had to skip paying her credit card because she cannot even afford the minimum payments. Anna had to fire her eviction attorney because he couldn’t handle the eviction against the professional tenant…

Real estate investing lessons learned

Let me try to dissect Anna’s story and share lessons learned with regard to real estate investing.

1. Invest for the right reasons
After Anna won the auction, one of her immediate thoughts was “Now I am going to be rich”.  There really is  nothing wrong with wanting to get rich, who doesn’t! However, I can’t help but feel that money was her biggest motivating factor.

Besides, once you win your first auction, becoming rich is usually the last thing on one’s mind, at least that’s how I often felt when I won on my bids during auctions.

I usually had thoughts like “Oh no, I won… what did I get myself into?”, “Now you’ve got a lot of work ahead of you Jay…”, and “I did my due diligence right, so this deal should work!”. That’s why I can’t help but feel there’s something lacking here based on the story because her focus was on the money.

Just remember that if you are going into real estate investing just for the money, something is definitely missing! Personally, I always try to keep in mind that my decision to go into foreclosure investing is not really just about the money, it’s about financial freedom!

2. Don’t risk everything when investing!
Anna withdrew her life savings and used that as down payment. Don’t ever do this! It is never a good idea to risk it all just for one deal!

You should at least have an emergency fund intact somewhere safe. I don’t believe in putting everything on the line like my entire life savings. I would rather set aside money for the specific purpose of investing and only use that.

I refer to this as my “Financial Freedom Account” or FFA which is just one of my “money jars” which I learned from T. Harv Eker. You can read more about it here: Manage your finances by becoming your own Chief Financial Officer.

Some of you may be thinking “But maybe Anna did not have enough money so she needed to use her life savings?”. Just a word of advice, if you cannot manage your money to set aside enough money to put down for a real estate investment, then you are not yet ready to start investing.

There should really be no need to use your entire life savings if you are able to manage your finances well. I believe that financial literacy is a prerequisite to real estate investing.

3. Always do your home inspections as part of due diligence
Anna bought the property because the outside looks good and she figured the inside should be in good condition also.

Argh! Never buy a property without first doing a thorough inspection and getting estimates from reliable contractors.

I made this mistake once, but I was lucky that property’s  after repair value (ARV) was more than enough to cover the actual repair cost that I underestimated by Php100,000.

In Anna’s case, had she done her inspections well, she could have discovered the termite damage and avoided buying the property, since she would know she could not afford the termite damage repair.

Actually it would be okay to buy properties that have similar problems as long as they are discovered before purchasing the property, the costs are considered and justified after analysis, and the additional costs are reasonable and you can actually afford them.

With regard to the very limited time to inspect properties being sold in foreclosure auctions, this is very true, even here in the Philippines. This is the reason why I would rather buy bank foreclosed properties or bank acquired assets, which are also often referred to as ROPOA or ROPA.

In contrast, properties being sold in foreclosure auctions are those that have just gone through foreclosure proceedings, they are often for sale on cash basis only, it is hard to inspect these properties as they are often still occupied, and they still have a 1-year redemption period, just like tax foreclosures.

My point here is this, foreclosure auctions are different from bank foreclosed property auctions, although in general, both are often referred to as “foreclosures”.

4. Always Pre-qualify tenants
Anna did not screen her tenants well. Without pre-qualifying tenants, you are inviting trouble. By Pre-qualifying tenants, you basically want to ensure that your tenants not only have the capacity to pay, but are also good payers. A simple interview or a questionnaire and some background checks would have helped her avoid that tenant from hell.

Anna’s problems snowballed into something she could no longer handle, but the sad thing about it is, all of these could have been avoided had she done her homework. This is really one story which outlines how one should NOT invest in foreclosures. All real estate investors should learn from it as it contains perfect examples of what NOT to do.

Did I miss anything? Any reactions? Please share your comments below. Thanks!

—–

To our financial freedom!

Jay Castillo
Real Estate Investor
Real Estate Broker License #: 20056
Blog: https://www.foreclosurephilippines.com

Text by Jay Castillo. Copyright © 2009 All rights reserved.

P.S. – If you are a new visitor, please start here to learn more about foreclosure investing in the Philippines.

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31 thoughts on “How NOT To Invest In Foreclosures”

  1. Hi Jay and to everybody involved here at this blog,

    I am a new real estate agent who is starting here in Baguio, and wow I did not thought I would find a blog that would be informative but heck it is even a Filipino Blog so I am proud for this blog. Great ideas that are being shared here.

    I like the story of Anna, it only showed that she was not that financially literate about the concept of real estate and she did go to the extra mile in doing her assignment in looking for good tenants also having no plan b for additional expenses in unforeseen events like the termite problem that made a hole in her pocket.

    Also I like that they are presenting here the ideas of Robert Kiosaki aka my number one best financial author.

    Great Article Jay,

    Timons Cabansi
    Your Real Estate Agent here at Baguio City

  2. I really am keen in learning more in this subject matter, i cant wait to be ready (financially) to start this. Its also better to do this with someone who is passionate in the subject like you and the readers here. Do you plan of doing future meetups for readers here to socialize and exchange ideas?

  3. this article is very well said. for someone like me planning to go into foreclosure investing, you have offered a no nonsense tips on how not to make a fool out of ourselves.

    🙂 kudos, this site has offered us newbies alot of options.
    god bless you and your family.

  4. hi jay,

    this is really a very helpful website you got here. i just finished reading 3 books you mentioned on your ‘be your own CFO’ article when i stumbled on your site. i was already inspired just by reading the 3 books from kiyosaki, sanchez, and gamboa and this site boosted me even more. me and my dad are talking about it and are really planning these carefully. doing most of the books suggestions as well as your site’s. we’ll its different reading and actually doing it so i do hope that when me and my dad are ready to try our first investment, you’ll be able to help me out for some pointers and tips since i’m just a beginner to start my 30 day financial management (goodluck to me ^_^). more power to you, to this site and more financial freedom to you and your family!

    marty ^_^

  5. What is an “as is” in buying foreclosed property and what happens to the occupants if I decide to buy. I’ve heard that I might have to file for ejectment of the occupants? Who will shoulder the cost, how much and how long would the process take? I know it’s alot of questions but I’m new at this and I don’t want to make any mistakes with my first time buying. Any and all assistance that you can render me concerning these matters is be greatly appreciated.

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  7. HiJay,

    There is really a lot to learn from your network. Thank you Jay and to all who shared their views.

    By the way, Jay i need your opinion regarding the property i won in a bidding held last September for Delinquent realty property Tax. I took the risk knowing that there was an inscription of mortgage dated 1983 by a bank that was closed already. Do you think i had a big chance of acquiring it after the 1 year redemption period?

    Jun

    1. Hi Jun!

      You are welcome and thank you also for visiting. If it was mortgaged by a bank that was already closed, I guess the next step you can take is to check if the assets of that bank was taken over by the Banko Sentral or PDIC. My opinion however is that if there is another bank that took over, they will surely pay the real property tax arrears plus interest and you will surely get a return on your investment. If none, then you may just get the property after the one year redemption. Either way, looks like it would be good for you!

  8. Yes! Foreclosure properties are really hot in the market right now. The amounts of offers submitted to these REO listing agents are starting to get ridiculous! Banks are having no problems moving their distressed properties because investors and smart small-time investors realize that their opportunities to invest in properties for dirt cheap (pun intended), will come come to an end real soon! So just a quick advise to everyone that are “thinking” about investing…don’t think about it anymore. Just invest, wisely of course. Be sure to consult with your Realtor and seek financial advise before investing.

  9. In the case of the tenant from hell, I would like to add two things that protect investors :
    1) Well written contracts –conditions are crucial to identify “hellish” tenants, as well as stipulations on how to deal with them.
    2) Post dated Cheques (PDC) –Philippines has a strict law in regards to issuance of cheques. Require your tenants to issue PDC as form of payment.

    In case of my rent to own scheme, “pre-qualifying” tenants is almost not practiced, since 1) they pay you None-Refundable Option Consideration (the down payment) (mostly enough to regain the cash-outs made) and 2) they issue PDC as their monthly payment.

    Hope this helps. Cheers!

  10. Hi Jay!

    Great post. Can’t think of anything to add at the moment.

    Just want to share and maybe get some comments from you about pursuing financial freedom. I believe the greatest challenge in anyone’s pursuit to financial freedom is OVERCOMING FEAR. Many books about gaining financial freedom talk about the importance of facing your fears head on. One may know a lot about investing or any other kind of business, but until he acts on it with courage, he will always remain in the same situation, far from achieving his dreams. As it is said, courage is not the absence of fear but having the strength to face it. In real estate investing and related to fear, what should one do FIRST that is non-technical? Hmmm…

    One can do his homework on looking for properties. He can try looking for brokers to help him spot good deals to buy. One can continue listening to seminars, read your books or your blog and try to learn about real estate investing. But I think many people have continued to fail in investing on their first deal? What do you think is missing and what should one do to bridge this gap that seems to be very near yet so far apart?

    Thanks bro!

    Hope to meet up with you again. My treat!

    Bryan
    .-= Bryan Uy´s last blog ..Investing in Instant Savings: The Ondoy Aftermath and A Classmate’s Untimely Death =-.

    1. You are absolutely right Bryan, fear is the dragon one needs to slay or at least learn to face. I suppose what is also often missing is the big “Emotional Why” which feeds one’s passion or desire to pursue that first deal and make it work no matter what.

      Sure bro, just let me know if you are in the vicinity, I would like to discuss this with you further over coffee sometime!

  11. Jay,

    10 Things you need to know before you invest in real estate

    You have to chose your strategy there is more than 1 way to skin a cat.

    It’s never safe to pay retail

    Real estate is more of a business than an investment

    You need a POWER team

    You need to finance properties with out conventional funding

    Know when to quit your job

    You need asset protection

    Involve loved ones but carefully

    There is no such thing as a bad real estate market

    Education is crucial BUT

    I have a FREE ebook that details these 10 things on my blog. You can go to http://reitvshow.com to download it now.
    Awesome blog. I work virtually with some great people from the Philippines on my real estate investing blog in the states at http://reitvshow.com I would love to do a special guest episode with you. LEt me know if you are interested.

    Talk soon,
    Jon Zorrer

    1. Hi Jon! Wow, thanks for the 10 things(especially the ebook)and for the invite for the guest episode. Of course I’m interested! I’m now heading over to your site… 🙂

      I was supposed to comment on your 10 things here but I believe this deserves a new post…

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  16. Hi Jay,

    It is very well explained. Whether you are a beginner or experienced investor, it is important that you have the understanding and enough education before venturing into something so that you can prepare for the exit strategies when your initial plan fails.

    I would like to share this Rich Dad Tip from Robert Kiyosaki:

    “The formula for winning at real-estate investing is the same as for winning at Monopoly: Buy four green houses, then trade them for a red hotel. Beginning investors should start small while they acquire education and experience. Later, they will have the financial intelligence and assets to trade up to more lucrative investments.”

    Regards,
    Will
    .-= Will´s last blog ..Helping Others To Be Financially Free =-.

    1. Thanks Will! Thank you also for the tip. I often hear this in RK’s books including Rich Dad Poor Dad. It is also the formula to get out of the rat race when playing cashflow 101 which I am trying to duplicate in real life. So far I am on my third property. Wish me luck and good luck also!

      1. Hello Jay,
        Thanks for enumerating all the lessons here.
        Good thing that I do not have those kinds of tenants from hell.
        So far I am on my second property. And the first property that I have is already rented to a good tenant.

        Good luck to us all.
        And GOD Bless.
        -Gio Paredes
        .-= Gio Paredes´s last blog ..Kalayaan Comics Delivery =-.

        1. You’re welcome Gio.

          Wow, another success story! I’m really glad to know that you already have your first property rented out and you are already on your second. Congratulations and thanks for sharing!

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